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Why the Fed is pushing unemployment higher

Federal Reserve Chairman Jerome Powell said Wednesday it will be almost impossible for the central bank to beat inflation without hundreds of thousands of Americans losing their jobs. 

Fed officials expect the unemployment rate to rise to 4.4 percent next year, up from 3.7 percent in August, as they jack up borrowing costs and slow the economy, according to projections released Wednesday.  

Experts say such an increase in the jobless rate over the course of a year would likely push more than 1 million workers out of their current jobs and leave millions more unable to find better work or higher wages. 

“We certainly haven’t given up the idea that we can have a relatively modest increase in unemployment,” Powell said Wednesday after the Fed delivered another massive rate hike. 

“Nonetheless, we need to complete this task,” he continued.  

Put simply, the Fed knows its past and future rate hikes will lead to higher unemployment and won’t stop fighting inflation because of it. 

But higher unemployment isn’t just a side effect of the Fed’s plans: It’s a goal.  

Powell and scores of other economists believe the U.S. job market is too strong to allow inflation to fall. The combination of super-low unemployment and record-high job openings have fueled rapid wage growth, they contend, which forces businesses to raise prices to afford higher labor costs. 

Powell has argued for months that the Fed must bring the labor market into “balance” before inflation could fall back to normal levels. But that means putting people out of work and leaving them with much fewer opportunities to find jobs after nearly two years of rapid inflation. 

“It’s going to be extremely painful for those families who are going to be hit with a double whammy. Not only are prices continuing to go up, at this very high inflation rate, they might lose their jobs as well,” said Derek Tang, co-founder and economist at research firm Monetary Policy Analytics. 

The Fed is obligated under federal law to keep both unemployment and inflation as low as possible. To do so, the bank cuts interest rates to spur the economy when unemployment is high and raises rates to slow the economy when inflation starts to rise. 

After cutting rates to near-zero levels during the onset of the pandemic, the Fed waited too long to begin raising them as the economy recovered and inflation rose in 2021 — not unlike a driver keeping their foot on the accelerator as a car soars down a hill. 

“The question is, are we going to tap or slam on the brakes?” Preston Mui, economist at research nonprofit Employ America, wrote in a Friday email. 

“Driving the economy into a recession will likely relieve inflation, but it will do so at a tremendously high cost. Those unemployed are not only going to miss out on a job for a year; these workers will likely see depressed employment and incomes for a decade.” 

But Powell and those who support the Fed’s rapid rate hikes say it’s a necessary trade off to avert a far worse downturn. 

The Fed failed for decades to quell inflation as it rose throughout the 1960s and ’70s, leading to a spiral of ever-climbing prices and wages. The inflationary surge weighed heavily on the economy until the Fed under former Chairman Paul Volcker deliberately induced a recession with a shocking increase in interest rates. 

Powell has argued for months that a temporary downturn that helps bring inflation down for good is far better for the U.S. than allowing inflation to spiral out of control and lead to a deeper, more painful recession. 

“If we want to light the way to another period of a very strong labor market, we have got to get inflation behind us. I wish there were a painless way to do that. There isn’t,” Powell said Wednesday. 

Experts say that pain will come first as a general decline in wage growth, with earnings likely falling further behind prices. Then companies will likely be forced to pull back open jobs before some eventually face the need to cut hours or staff as sales fall in a weaker economy. 

“As the interest rate goes up, it gets more expensive for businesses to do business. So, therefore, I think everybody’s worried that they’ll slow down hiring,” said Jane Oates, a former Labor Department official and president of WorkingNation, a research and advocacy nonprofit. 

Oates added that the slowdown will also raise questions about the strength of holiday-season hiring, which is often the point of reentry for workers who have left the labor market. There were still roughly 1.6 million fewer Americans in the labor market in August than in February 2020, and a slower labor market may yield few opportunities for them. 

Critics of the Fed’s approach also believe the central bank is overestimating how much it must damage the labor market in order to bring inflation down.  

Mui, of Employ America, argued the Fed’s focus on the ratio of job openings to unemployed workers is misguided because job openings data “do not really reflect how job search actually happens.” He added that leaning on the Fed to suppress demand will also do little to quash the constraints on supply that are driving prices higher. 

“The bulk of the current inflation we are seeing are caused by supply issues in particular industries stemming from the pandemic,” he wrote. 

“The Fed’s projections show that it is willing to accept over a million more unemployed over the next few years. I think that is a way too costly a path to commit to given the weakness of the evidence that it’s necessary.” 

Source: The Hill

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